warranties that are implied when the person presents the instrument for negotiation

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HDC

Holder in Due Course

Signature

The UCC broadly defines a signature as any name, word, mark, or symbol executed or adopted by a person with the present intention to authenticate a writing; can be made by any device or machine

Contractual Liability

No person will be held contractually liable for an instrument that he or she has not signed personally or through an authorized representative

Primary Liability

A person who is primarily liable on a negotiable instrument is absolutely required to pay the instrument--unless, of course, he or she has a valid defense to the payment. Liability is immediate when the instrument is signed or issued.

Makers

The maker of a promissory note unconditionally promises to pay the note according to its terms. Their promise to pay renders the instrument negotiable. if the instrument was incomplete when the maker signed it, the maker is obligated to pay it.

Acceptors

An acceptor is a drawee who promises to pay an instrument when it is presented later for payment. Once a drawee accepts a draft, the drawee becoems an acceptor and is obligated to pay the draft when it is presented for payment.

Certification

Acceptance of a check; it is not necessary on checks, and a bank is under no obligation to certify checks. If it does certify a check, however, the drawee bank occupies the position of an acceptor and is primarily liable on the check to any holder.

Who is secondarily liable?

Drawers and indorsers

Secondary Liability

Similar to the liability of a guarantor in a simple contract in the sense that it is contingent liability (a drawer or an indorser will be liable only if the party that is primarily responsible for paying the instrument refuses to do so [dishonors])

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Drawer

On drafts and checks, a drawer's secondary liability does not arise until the drawee fails to pay or to accept the instrument, whichever is required.

Indorser

With regard to promissory notes, an indorser's secondary liability does not arise until the maker, who is primarily liable, has defaulted on the instrument.

Parties are secondarily liable on a negotiable instrument only if the following events occur:

1. the instrument is properly and timely presented

2. the instrument is dishonored

3. timely notice of dishonor is given to the secondarily liable party

Presentment

occurs when a person presents an instrument either to the party liable on the instrument for payment or to a drawee for acceptance

The party to whom the instrument must be presented depends on the type of instrument involved

A note or certificate of deposit (CD) must be presented to the maker for the payment

A draft is presented to the drawee for acceptance, payment, or both.

A check is presented to the drawee (bank) for payment

Timely Presentment

Failure to present an instrument on time is a common reason for improper presentment and can lead to unqualified indorsers being discharged from secondary liability.

Reasonable Time for Presentment

Determined by the nature of the instrument, any usage of banking or trade, and the facts of the particular case

Dishonor

An instrument is dishonored when payment or acceptance of the instrument is refused or cannot be obtained within the prescribed time. Also when the required presentment is excused and the instrument is not properly accepted or paid.

Proper Notice

Notice may be given in any reasonable manner, including an oral, written, or electronic communication, as well as notice written or stamped on the instrument itself.

Accomodation Party

It one who signs an instrument for the purpose of lending his or her name as credit to another party on the instrument. This is one way to secure against nonpayment of a negotiable instrument.

Accomodation Maker

If the accomodation party signs on behalf of the maker, he or she is an accomodation maker and is primarily liable on the instrument.

Accomodation Indorser

If the accomodation party signs on behalf of a payee or other holder (usually to make the instrument more marketable), she or he is an accommodation indorser, and, as an indorser, is secondarily liable.

Agent

A person who agrees to represent or act for another, called a principal.

Principal

In agency law, a person who agrees to have another, called the agent, act on his or her behalf.

Liability of the Principal

Generally, an authorized agent binds a principal on an instrument if the agent clearly names the principal in the signature (by writing, mark, or some symbol). In this situation, the UCC presumes that the signature is authorized and genuine.

Liability of the Agent

1) If the agent signed the agent's own name on the instrument with no indication that she or he was signing as an agent, an HDC can hold the agent personally liable

2) If the agent signed in both the agent's name and the principal's name but nothing on the instrument indicated the agency relationship

3) When the agent indicates agency status in signing a negotiable instrument but fails to name the principal

Checks Signed by Agents

If an agent signs his or her own name on a check that is payable from the account of the principal, and the principal is identified on the check, the agent will not be personally liable on the check.

Unauthorized Signatures

1) When a person forges another person's name on a negotiable instrument

2) When an agent who lacks the authority signs an instrument on behalf of a principal

The general rule is that an unauthorized signature is wholly inoperative and will not bind the person whose name is signed or forged.

Exceptions to the General Rule

1) When the person whose name is signed ratifies the signature, he or she will be bound2) When the negligence of the person whose name was forged substantially contributed to the forgery, a court may not allow the person to deny the effectiveness of an unauthorized signature.

When the Holder is in Due Course

A person who forges a check or signs an instrument without authorization can be held personally liable for payment by a holder in due course.

Imposters

An imposter is one who, by her or his personal appearance or use of the mails, Internet, telephone, or other communication, induces a maker or drawer to issue an instrument in the name of an impersonated payee. If the maker or drawer believes the imposter to be the named payee at the time of issue, the indorsement by the imposter is not treated as unauthorized when the instrument is transferred to an innocent party.

Imposter Rule

Under the UCC's imposter rule, the imposter's indorsement will be effective– that is, not considered a forgery– insofar as the drawer or drawee

Fictitious Payees

When a person causes an instrument to be issued to a payee who will have no interest in the instrument, the payee is referred to as a fictitious payee. A fictitious payee can be a person or firm that does not truly exist, or it may be an identifiable party that will not acquire any interest in the instrument.

Fictitious Payee Rule

Under the UCC's fictitious payee rule, the payee's indorsement is not treated as a forgery, and an innocent holder can hold the maker or drawer liable on the instrument.

Situations with Fictitious Payees

1) A dishonest employee deceives the employer into signing an instrument payable to a party with no right to receive payment on the instrument

2) A dishonest employee or agent has the authority to issue an instrument on behalf of the employer and issues a check to a party who has no interest in the instrument

Warranty Liability

It arises even when a transferor does not indorse the instrument. Warranty liability is particularly important when a holder cannot hold a party liable on her or his signature. It is not subject to the conditions of proper presentment, dishonor, or notice of dishonor.

Transfer Warranties

1. The transferor is entitled to enforce the instrument.

2. All signatures are authentic and authorized.

3. The instrument has not been altered.

4. The instrument is not subject to a defense or claim of any party that can be asserted against the transferor.

5. The transferor has no knowledge of any bankruptcy proceedings against the maker, the acceptor, or the drawer of the instrument.

Presentment Warranties

They protect the person to whom the instrument is presented

1. The person obtaining payment or acceptance is entitled to enforce the instrument or is authorized to obtain payment or acceptance on behalf of a person who is entitled to enforce the instrument.

2. The instrument has not been altered.

3. The person obtaining payment or acceptance has no knowledge that the signature of the drawer of the instrument is unauthorized.

Universal Defenses

Also called real defenses; valid against all holders, including HDC's and holders through HDCs. Includes: forgery, fraud in the execution, material alteration, discharge in bankruptcy, minority, illegality, and mental incapacity, extreme duress.

Forgery

Forgery of a maker's or drawer's signature cannot bind the person whose name is used unless that person ratifies the signature or is precluded from denying it. Essentially, the person whose name is forged has no liability to pay.

Fraud in the Execution

If a person is deceived into signing a negotiable instrument, believing that she or he is signing something other than a negotiable instrument, fraud in the execution is committed against the signer.

Material Alternation

An alternation is material if it changes the contract terms between two parties in any way.

Complete vs Partial Defense

Material alternation is a complete defense against an ordinary hold but only a partial defense against an HDC.

Discharge in Bankruptcy

Discharge in bankruptcy is an absolute defense on any instrument regardless of the status of the holder. This defense exists because the purpose of bankruptcy is to finally settle all of the insolvent party's debts.

Minority

Minority, or infancy, is a universal defense only to the extent that state law recognizes it as a defense to a simple contract

Illegality (Universal Defenses)

Certain times of illegality constitute universal defenses, whereas others are personal defenses. If a statute provides that an illegal transaction is void, then the defense is universal--that is, absolute against both an ordinary holder and an HDC. If the law merely makes the instrument voidable, then the illegality is a personal defense against an ordinary holder, but not against an HDC.

Mental Incapacity (Universal Defenses)

If a court has declared a person to be mentally incompetent, then any instrument issued by that person is void. The instrument is void ab initio and unenforceable by any holder or HDC.

Extreme Duress

When a person signs and issues a negotiable instrument under such extreme duress as an immediate threat of force or violence, the instrument is void and unenforceable by any holder or HDC.

Personal Defenses

Also called limited defenses; are used to avoid payment to an ordinary holder of a negotiable instrument, but not to an HDC or holder through an HDC. Includes: breach of contract or warranty, lack or failure of consideration, fraud in the inducement, illegality, mental incapacity, and other personal defenses.

Breach of Contract or Breach of Warranty

When there is a breach of the underlying contract for which the negotiable instrument was issued, the maker of a note can refuse to pay it, or the drawer of a check can order his or her bank to stop payment on the check. Breach of warranty can also be claimed as a defense to liablity on the instrument.

Lack or Failure of Consideration

The absence of consideration may be a successful defense in some instances. Similarly, if delivery of goods becomes impossible, a party who has issued a draft or note under the contract has a defense for not paying it.

Fraud in the Inducement (Ordinary Fraud)

A person who issues a negotiable instrument based on false statements by the other party will be able to avoid payment on that instrument, unless the holder is an HDC.

Illegality (Personal Defenses)

If a statute provides that an illegal transaction is voidable, the defense is personal. Thus an instrument given in payment of a contract to restrain trade in those states is voidable.

Mental Incapacity (Personal Defenses)

If a maker or drawer issues a negotiable instrument while mentally incompetent but before a court has declared him or her to be so, the instrument is voidable.

Other Personal Defenses

1. Discharge by previous payment or cancellation

2. Unauthorized completion of an incomplete instrument

3. Nondelivery of the instrument

4. Ordinary duress or undue influence rendering the contract voidable

FTC Rule 433

FTC Rule 433 severely limits the rights of HDCs that purchase instruments arising out of consumer credit transactions. The rule applies to consumers who purchase goods or services for personal, family, or household use using a consumer credit contract. The FTC regulation attempts to prevent a consumer from being required to make payment for a defective product to a third party HDC of a promissory note that formed part of the contract witht he dealer who sold the defective good.

Discharge by Payment or Tender of Payment

All parties to a negotiable instrument will be discharged when the party primarily liable on it pays to a holder the full amount due. The liability of all parties is also discharged when the drawee of an unaccepted draft or check makes payment in good faith to the holder.

Discharge by Cancellation or Surrender

Intentinoal cancellation of an instrument discharges the liability of all parties. Intentionally writing cancelled or tearing. A note's holder may also discharge the obligation by surrendering the note to the person to be discharged-- provided that the holder intended to eliminate the obligation.

Discharge by Reacquisition

A person who reacquires an instrument that he or she held previously discharges all intervening indorsers against subsequent holders who do not qualify as HDCs.

Discharge by Impairment of Recourse

Discharge can also occur when a party's right of recourse is impaired. If the holder has adversely affected the indorser's right to seek reimbursement from these other parties, however, the indorser is not liable on the insturment.

Right of Recourse

A right to seek reimbursement

Discharge by Impairment of Collateral

Sometimes, a party to an instrument gives collateral as security that her or his performance will occur. When a holder "impairs the value" of that collateral without the consent of the parties who would benefit from the collateral in the event of nonpayment, those parties to the instrument are discharged to the extent of the impairment.

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